HTA.U: 7.7% Growing Yield And Beating QQQ Seems Sustainable (TSX:HTA.B:CA)

Investment Thesis

Can you have high yield and aggressive capital appreciation within a single fund to capitalize on the growth in the technology sector? Can you avoid the dreaded capital erosion associated by some covered call funds and achieve great total return with reduced volatility? The Harvest Tech Achievers Growth & Income ETF (TSX:HTA.U:CA) is doing just that by ticking all the boxes in a focused big tech ETF with a 7.7% yield and beating Invesco QQQ Trust Series 1 (QQQ) in terms of total return over the last 3 years. I have written about a 9% Yielding Portfolio to Crush the Market in November last year, containing HTA. This article will analyze HTA in terms of its constituents’ future earnings growth, margins, and volatility metrics to support the thesis, as well as total return and yield metrics.

Fund Objectives and Approach

The objective of the fund is to provide generous, consistent monthly income combined with the potential for capital growth with lower portfolio volatility compared to owning the stocks directly. It is achieving most of the income via a covered call strategy on up to 33% of the portfolio, with the level of covered call option writing depending on market volatility and other factors.

The fund is an Information Technology and Communication Services pure-play with no dilution of any other sectors as per the HTA Fund page:

This is useful to keep the fund focused and allow investors to selectively diversify along sectors according to individual needs or preferences. Many Nasdaq 100 based funds would typically also include names from various sectors including Healthcare, Financials and Consumer Discretionary.

Fund Manager

Harvest ETFs is based in Oakville, Ontario and manages more than $4B in assets. Their investment approach relies on strong businesses with the potential to grow and produce consistent income over time. They offer a wide variety of income and growth focused funds along themes and have been operating since 2009. Harvest EFTs was named one of Canada’s top growing companies for the second consecutive year. HTA is also the Refinitiv Lipper Fund Awards 2023 Canada winner of Best Sector Equity Fund over 3 & 5 years for the second year in a row. HTA is traded on the Toronto Stock Exchange, with this article focusing on the class U – The US dollar denominated fund. A Canadian Dollar hedged (TSX:HTA:CA), unhedged (TSX:HTA.B:CA) as well as a 25% leveraged (TSX:HTAE:CA) funds are also available.

Fund Holdings vs Nasdaq 100

HTA was initially launched as a CEF but converted into an ETF in 2017 and currently consists of 20 equally weighted (5% each) large cap global technology stocks. The criteria for selection are not very specific but only indicated as diversified, large cap, dominant global technology leaders reshaping most industries. Here is a comparison to the Nasdaq 100 with HTA constituents highlighted in descending market cap order. Source: HTA Fund page and Nasdaq 100 stock list.

The 20 stocks held by HTA are all falling within the top 45 of the Nasdaq 100 by market cap, which seems to indicate that market capitalization is playing an important selection role. This might be a useful criterion for the higher volatility technology space, in my view. It is interesting to know that these 20 stocks have a combined market cap of more than $13T, compared to the total of about $17T for the Nasdaq 100. However, the Nasdaq 100 index is market cap weighted as opposed to HTA’s equal weighting, which effectively reduces risk related to over exposure to the big names.

Forward Earnings Growth & Margins

Let’s look at the forward earnings growth (diluted) as well as the gross profit margins and net income margins for the HTA portfolio. Source: Seeking Alpha and own analysis.

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The portfolio has an average of 19.86% forward earnings growth, which points to a very profitable year ahead. Only MU and TXN are bucking this trend with negative figures. The average gross profit margin at 62.73% and net income margin at 20.91% are both great figures, with MU’s the only negative figures. This underlines the strength and sustainability of this fund. The combination of such strong forward earnings growth and margins add to the robustness of the portfolio to weather most storms that might come in the foreseeable future, in my opinion.

Volatility Analysis

Lower volatility is stated as a fund objective. Here is an analysis of the 3 and 5 year standard deviation and Sharpe ratio as indicators with QQQ used as benchmark resembling the portfolio. Source: Yahoo Finance.

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HTA is displaying meaningfully superior figures for both metrics over the 3 and 5 year timeframes. This is illustrating that the fund objective of lower portfolio volatility is convincingly met.

Total Return Analysis

So how does the fund perform on total return basis and compares to peers and benchmark? The 6 months, 1, 3 and 5 year Total Return Performance against peers and QQQ are shown here (as at market close on 3^rd of May 2024). (all figures are net of fees). Source: Seeking Alpha.

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HTA is outperforming all peers substantially throughout and also beating QQQ in the last 6 months, 1 year and 3-year intervals, which is impressive. It is only slightly eclipsed by QQQ in the last 5-year interval. This is indicating that the portfolio selection and allocation as well as the covered call strategy in general are very effective in my opinion.

Price Return Analysis

But what about the concern of capital erosion seen with some covered call funds? For that purpose, let’s look at purely the price return performance against peers and QQQ (as at market close on 3^rd of May 2024). Source: Seeking Alpha.

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HTA is displaying strong price appreciation throughout and showing no signs of capital erosion. It is comprehensively outperforming peers and only beaten by QQQ. Just out of interest, on a price return basis alone, HTA is ahead of the SPDR S&P 500 ETF Trust (SPY) over the last 1 and 5 years. This is indicating that the covered call strategy of HTA is very effective to prevent capital erosion and that the fund managers are achieving the objective of the potential for capital growth.

Yield and Yield Growth

Yield is important to consider for an income fund, especially the growth in yield to counter the effect of inflation. The current forward yield as well as the Compounded Annual Growth Rate (CAGR) of yield over a 3 and 5 year basis is analyzed here. Source Seeking Alpha.

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HTA has a forward yield of 7.70% at market close May 3rd 2024. The yield is in the form of a stable monthly distribution but has been raised aggressively three times since the fund’s inception in 2017. The CAGR on the yield has been an exceptional 24.12% over the last 3 years and 14.22% over the last 5 years, indicating that the yield growth is corresponding with the price growth. The strong price growth is also indicating that the yield growth is not achieved at the cost of price growth. These figures point to an effective and very consistent covered call strategy, in my view, providing confidence that the fund manager will make the most of what the market is offering in future. With reference to peers and benchmark, JEPQ and QYLD have a higher forward yield, but is variable, with the QYLD yield shrinking and JEPQ only 2 years old without a clear yield trend. The QQQ dividend payment is insignificant and the CAGR’s is decent, but not even close to that of HTA.

Manageable Risks

Even though volatility is reduced as indicated in this article, HTA can still be expected to have a fair amount of volatility due to the pure Information Technology and Communication Services sector constituents. Earnings might not always be realized as estimated, potentially impacting on stock price, but the strong gross profit margins and net income margins of the HTA constituents are providing some support for future sustainability. Current valuations of big tech stocks could be a concern; however, the high yield is providing a useful safety cushion here. A dollar cost averaging approach might also mitigate potential downside.

The average daily share volume is a fraction in comparison to the peers. This could become somewhat of a constraint for regular traders, but not a real concern for long-term investors. The only 20 equally weighted constituents might be too concentrated for some but is excluding smaller companies with less established business models and product diversification.

The future success of HTA is in part determined by the effective fund management and covered call strategy. In this regard, the fund manager has been very effective and consistent over the nearly 7 years since the fund launched as an ETF.

Conclusion

The very strong future earnings growth as well as the substantial gross profit margins and net income margins of the constituents of HTA as well as the reduced volatility of the fund are supporting the thesis that this fund is robust and able to weather the storms of volatility. This together with the fund manager’s proven abilities supports the expectation that it will keep delivering on the growing share price and growing yield in future to remain a top high income and growth ETF ticking all the boxes. HTA’s fund manager are delivering on all stated objectives, including generous (and rapidly growing) yield and capital appreciation with reduced volatility. I rate HTA a buy via a dollar cost averaging approach. If you are rather looking for a higher yield, you can read my recent 13% yield portfolio matching the market in total return article. If you prefer stable yield, my 7.62% yielding portfolio with minimal price drawdown published recently might be of interest.

Please comment or share your thoughts on this article or dividend investing in general.